Traditional trading of commodities or financial instruments such as stocks and bonds has taken place in markets where traders offer various commodities at different prices. Such trades were performed using hand signals and paper was used to finalize the actual trading contract. With the advent of computers, more complex and faster trades may be made by integrating computing power. Additionally, the growth of the Internet and other electronic communications systems has moved the realm of trading beyond the trading floor. With the increasing complexity of the economy, a greater diversity of financial commodity products may be offered including derivatives. Derivatives are defined as a financial contract whose value depends on the values of one or more underlying assets or indices of asset values. Presently, derivatives are traded in traditional exchanges which can include futures or options in commodities ranging from pork bellies to currency prices. Recently, derivatives have also been traded in the over-the-counter (OTC) market defined by transactions by large financial institutions such as commercial banks or insurance companies. Such derivatives can include swaps, options, caps, floors, corridors, etc. derived from interest rates, foreign currencies, equities and other commodities or financial instruments.
Exchange derivatives are structured with standard terms such as contract size, maturity, expiration date, etc. set by an exchange such as the Chicago Board of Trade. Additionally, trades of exchange derivatives and their supporting data are sent to a third party clearing house for settlement. In contrast, OTC derivatives are more flexible because none of the business terms of an OTC derivative are standardized. In addition, the settlement of the trade occurs directly through the trading parties as no third party clearing house exists because of the diversity of different derivatives.
One emerging over-the-counter market of derivative products is in the field of energy. With deregulation of the power industry, there is a much greater diversity of power generators with different types of energy sources such as natural gas, oil, electricity and solar. With such diverse energy sources and suppliers, a market has arisen in trading the commodities of energy between such producers. Various financial and physical derivative instruments such as swaps, options or spreads have been formulated by various players in the energy market. Players in this market range from traditional trading firms to energy companies. Like many financial markets, technology makes accessibility to the over-the-counter energy derivative market far greater.
Traders in the OTC energy market typically agree to prices and terms with another trading counter party for a particular type of derivative in an energy product such as a natural gas swap. This type of trade involves certain common terms such as settlement and payment terms. The trade may be made directly with a counter party, or by phone, or more recently, via an electronic platform such as the Internet. Such trades are recorded by the traders on their trade notebooks and trade data is entered directly into their company's trade data capture computer systems. These systems generate confirmation documents and summary data relating to the trade.
Like other OTC derivatives, energy derivatives do not have a uniform confirmation system of terms once a trade is made between the parties. Thus, when a trade is made, the parties must confirm the terms of the trade. Both the traders record the details of the trade in a trade notebook and enter the data directly into their company's trade capture system. The company's trade capture system prints confirmation documents which are reviewed and sent to the other party. This typically takes place by faxing the confirmation documents to the other party. A clerk then checks the terms of the received confirmation documents against the recorded alleged trade in the trade notebook and the data output of the receiving party's own trade capture system. Information such as the buyer and seller, purchase or sale, product, instrument, delivery point, price, delivery terms, etc. must match. After a clerk reviews the trade, any discrepancies must be reported to the trading counter party and a reconciliation must be made based on the recorded information. When it is confirmed that the information is accurate, the contracts are then signed and exchanged. Thus, the amount of time necessary for confirming the trade takes much longer then the trade itself. Even a trade which is correctly executed by both parties can take days to be fully confirmed. Errors prolong the process.
However, other errors are possible since clerks must examine and confirm numerous trades with often different forms for each derivative product. The confirmation problems resulting in much greater costs and decreased efficiencies. In fact, 18% of derivatives trades contain errors at the time of entry into a trade capture system. Many OTC derivatives are governed by a model Master Agreement endorsed by the International Swaps and Derivatives Association (“ISDA”). While the master agreement does make certain reconciliation more efficient, it must be modified for each specific OTC derivative product and the terms must still be manually examined in order to settle the trades.
Thus, there is a need for an automated confirmation system for OTC derivative products. There is yet another need for a system which can standardize confirmation of OTC derivatives. There is a need for a confirmation system which allows the rapid entry and processing of trade data. There is also a need for a system which allows a user to summarize trades for a certain period to determine which trades have irregularities. There is a further need for a trading confirmation system which will match data relating to fields and categorize the trades to determine which trades are confirmed.